The contract is signed and you’ve already started making plans for the extra cash you’ll be making in your new contractor career, but then you stop for a second and think; what about all the admin – I don’t know the first thing about working for myself.
Starting out as a contractor in the technology sector is a dream come true for many people, and it’s hard to deny the lure of flexibility, higher earnings, and a better work-life balance. And it’s true, it could mean all those things, but there are pitfalls and a certain amount of admin that come with a contracting role, which if you don’t get right / on-top of, they can quickly make you wish you had stayed an employee.
Hopefully, this guide will mean you manage to avoid all the hassle, and get off to a running start. It follows a logical order, and covers, if not all, at least most areas to keep in mind, with links to further resources and expert views.
If you’re new to the contracting game, you likely haven’t given the commercial arrangement you will have with your client much thought. Essentially, there are three options available to you, each with their own advantages and disadvantages.
Limited company – a limited company is a separate legal entity that forms the counterpart in the contractual agreement with your client. You will take the role of director and shareholder of the business. If you carry out work for a client through the limited company, you may also be an employee. If that is the case, the company will pay you a salary, and often also dividends, from its profits.
To run your own limited company tends to be the best solution for the majority of contractors as it allows you to have complete control over your financial affairs, whilst also being the most tax efficient form of trading.
The downside is that setting up and running your own limited company comes with some additional admin (downloadable PDF-guide) and responsibilities, but increasingly accounting firms that specialise in contractor support offer packages that cover all, or almost all the work for you.
Contracting through a limited company would suit anyone who is looking to have a longer contractor career, alternatively stands to invoice over £35,000 annually.
Sole trader – despite what you will read in countless articles and guides, being a sole trader is not an option for a contractor. There are several reasons for this, including the risk that they will be seen as employees under the law. This article goes into some detail about the reasons behind it.
Umbrella company – many first time contractors find the umbrella option an attractive proposition, primarily because of its apparent simplicity. You can start straight away, and there’s not much admin to contend with, beyond filling out your timesheets. For all intents and purposes, you will be a PAYE-employee of the umbrella company, for which you pay a small fee and your own and the employer’s NI. You’re also afforded some limited opportunities to make expense deductions.
Using an umbrella service would best suit someone who isn’t sure whether contracting is for them, or who is only contracting for a short period.
IR35 has been around since the
beginning of time 1999 and is more relevant than ever. Named after the number of the budget press release back in March 1999, it’s a piece of legislation that’s designed to tax what’s called disguised employment at a rate similar to employment.
As a contractor, it’s imperative that you’re familiar with what IR35 is, what it’s designed to do, and how it potentially affects you. We always recommend that you take advice from a professional before signing your contract, to ensure that you’re not affected. The HMRC is opening a number of enquiries into contractors every year, and if it happens to you, regardless of whether you’re able to successfully defend yourself, the process is lengthy and best avoided. And if you’re on the losing end, it can end up very costly indeed, as this contractor experienced.
That said, currently, the HMRC is opening enquiries at a rate of ca. 250 per year, out of a contractor population of about 300,000. Out of these 250 cases, only about 60 percent are pursued further. There are some more stats on the HMRC’s track record and the implications here.
In our book, there’s one main reason why someone chooses to become a contractor, and that’s the potential higher earnings compared to a salaried job. Those higher earnings are driven by two parts – firstly a contractor commands a higher compensation that can partly be seen as risk compensation for the lack of job security, a reflection of the lower costs the client has for your work as well as a reflection of the fact that you’re a flexible resource, and as such have a market price.
Secondly, a contractor is often able to optimise taxation compared to a salaried employee, which can have a significant impact on the total earnings. Your limited company only pays a corporation tax rate of currently 19% on its profits, regardless of how much it makes. There are a number of other ways of keeping taxation to a minimum, such as allowable expenses, setting the optimal salary and paying yourself dividends.
A common misconception amongst contractors who are just starting out is that as long as they’re financially literate, they could do their own books and accounting. Whilst this is technically true, experience tells us that that is very much a false economy. A good accountant is really worth her or his price, not just in terms of the admin required to do everything needed correctly, but also in saving you money.
Our recommendation is to get yourself an accountant as soon as you open your business bank account, as getting things right from the start can potentially save yourself a lot of headaches further down the line.
The market for accountants specialising in taking care of contractors is highly competitive, and most compete on price. It does pay off to compare their offerings before signing up, as they all tend to differ slightly. You don’t need to use a specialist contractor accountant however, any accountant will be able to look after you well enough. The important thing is that you have a good working relationship and that you can trust her/him.
Finally, it may be worth considering what accounting software the accountant you have in mind uses, and how it suits your requirements. There are plenty to choose from, and may well end up playing a role in who you choose for your accounting needs. If you have no preference, you can always as your accountant what she/he recommends, or ask your friends or colleagues for recommendations.
We speak to many budding and new contractors who tell us that they found the process of getting one set up more of a hurdle than they expected.
Thankfully, things are looking like they’re improving – business banking, one of the last bastions of old-style banking is experiencing a shake-up by a host of challenger banks and looks to wrestle some of the business away from the old city titans.
As with everything to do with money, we recommend evaluating the different products based on your contractor career needs. If all you’re likely to need is an account to send and receive money and an overdraft, the whole market should be open to you, but it’s worthwhile having a grasp of the pros and cons of brick and mortar banks and digital banks. The criteria we would look at specifically for a contractor’s needs are ease of set-up, modern online interface and accounting suite integration.
Whilst there’s no legal requirement to have insurance (professional indemnity and/or public liability insurance) most contractors do, as it’s normally a contractual requirement. And if you work through an agency, it will most likely be a requirement from their side too.
The most common types of contractor insurance are professional indemnity insurance, public liability insurance, and employers’ liability insurance. The employers’ liability insurance is required by law in the event your company employs anyone else other than yourself, but even if it doesn’t, it may be required by your client.
In addition to the three policies above, you may also want to consider various other policies such as income protection insurance, jury service cover and office contents.
So where do you turn to get your insurance products? A good starting point is to have a look at some of the price comparison sites for the best deals. There are also a number of specialist contractor accounting firms that offer an insurance package containing all three policies in the monthly cost – it may be worth considering one of those packages over separate products.
If you work through a recruitment partner firm, they may offer you something called self -billing, and if that’s the case we would recommend that you have that setup. It’s a legal agreement between the recruitment firm and your limited company and it removes the admin of issuing your own invoices and it often also speeds up payment. All you need to do is to report your timesheets and rechargeable expenses via the agency’s online portal.
Get your compliance pack ready as soon as you can, to minimise delays and streamline the process. So what is a compliance pack? All contractors that start in the UK need a set of compliance documents (that vary slightly with every agency or employer) but fundamentally for you to work as a limited company contractor you need:
These documents will be requested for every contract so we recommend that you keep them to hand.
If you’re coming from a corporate job, you most likely already have a company pension in place and it’s important to realise that once you start your contract it’s your responsibility to manage your own pension (other than the state pension, of course), both as a company and a private individual. The good news is that paying into a company pension brings with it some tangible tax advantages. The company’s contributions are treated as allowable business expenses, whereas your own contributions are tax-free up to 100% of your total salary or maximum £40,000.
Here’s a list of pension providers to consider.
Typically contractors or self-employed individuals are slightly disadvantaged when it comes to mortgages, but not necessarily because the lenders apply a different standard, as is commonly thought. The issue is rather that the contractors often pay themselves a low salary and the rest in dividends, which doesn’t fit with how the lenders calculate affordability. Bottom line, if you’re planning to buy a property in the immediate future, it may be worth deferring your contractor career until you secure a mortgage. If it’s not likely to happen for a while yet, there are a few things that you can do to maximise your chances.
Many of you still have student loans outstanding. If this is the case, you need to manage the repayment yourself when you start as a contractor. It’s likely no issue, but it’s another piece of admin, and if you forget to set it up, it could come back and bite you.
And of course, if you’d like to get some advice from one of our career experts, you’ll find the relevant contact details here: Cloud & Platforms, Cyber Security, Service Management and Senior Appointments.